Puerto Rico Representative Explores Bankruptcy Option

By Steven Church, Derek Wallbank and Michelle Kaske -
Jul 10, 2014

Puerto Rico’s non-voting
representative in the U.S. Congress is exploring changes to
federal law that would allow the commonwealth’s municipal
agencies to file for bankruptcy to restructure their debts.

Pedro Pierluisi, whose formal title is resident
commissioner, will ask congressional leaders about
introducing a bill that would alter the U.S. Bankruptcy Code to
let the agencies seek court protection from creditors, just as
cities including Detroit and Stockton, California, did when they
determined they were unable to meet financial obligations.

“It would be logical and appropriate for the code to be
amended to authorize public agencies and instrumentalities in
Puerto Rico to file under Chapter 9 to the same degree and
extent as their counterparts in the 50 states,” Pierluisi, a
Democrat, said yesterday, referring to the section of bankruptcy
law that covers municipalities.

Bond investors in the U.S. have long opposed municipal
bankruptcies, preferring to restructure debts outside of court,
where a judge can impose cuts. Only about half the states let
their municipalities file for bankruptcy. Some of those, like
Michigan, require a fiscal review first. States themselves are
barred from filing for bankruptcy.

Puerto Rico lawmakers took matters into their own hands
last month, passing a Recovery Act that would allow some public
corporations to negotiate with bondholders, potentially forcing
them to accept unfavorable terms.

Prepa Debt

The Puerto Rico Electric Power Authority, which supplies
most of the island’s electricity and owes $8.6 billion, may be a
candidate to reduce its debt load under the new law.

Fitch Ratings on June 26 downgraded Prepa to CC, its third-lowest speculative grade, citing a probable debt restructuring
or default. The utility paid $417.6 million to bondholders on
July 1.

Franklin Templeton Investments and Oppenheimer Funds Inc.,
which hold more than $1.7 billion in power authority bonds, have
sued to halt the new restructuring law. Under the U.S.
Constitution, only a federal bankruptcy court has the power to
force creditors to accept changes to a debt contract, such as
reduced payments.

The bond-fund managers filed their case just hours after
Governor Alejandro Garcia Padilla signed the bill into law June
28. On June 30, a federal court gave Puerto Rico 21 days to
respond to the suit.

Discussed Changes

In a joint statement yesterday, Puerto Rico Chief of Staff
Ingrid Vila and Treasury Secretary Melba Acosta said they had
discussed changes to the bankruptcy code with the U.S. Treasury
Department “to correct the exclusion of the commonwealth.” They
decided it would take too long to pass an amendment and chose to
introduce the Recovery Act.

They called Pierluisi’s decision “positive” and said they
would review any proposed legislation before commenting.

“It would be convenient if in the future the resident
commissioner would coordinate his efforts with those of this
administration to work together for the fiscal health of the
government of the Commonwealth of Puerto Rico,” they concluded.

Moody’s Investors Service responded to the new law on July
1 by cutting the commonwealth’s $14.4 billion of general
obligations to B2, five steps below investment grade.

Debt sold by the commonwealth and its agencies lost 6.4
percent last week, the biggest decline since at least 1999,
according to S&P Dow Jones indexes.

About 45 percent of Puerto Rico’s residents live in
poverty, according to U.S. Census data. Its economy has declined
about 11 percent since 2006, according to its Planning Board.
The 13.8 percent unemployment rate is more than double the U.S.
average.

The funds’ case is Franklin California Tax-Free Trust v.
Commonwealth of Puerto Rico, 14-cv-01518, U.S. District Court,
District of Puerto Rico (San Juan).